Turkish Lira in Free Fall

The Turkish Lira plummets as the Central Bank of Turkey withdraws key liquidity measures.

The initial claims numbers came in today just shy of 1.2 Million, a decrease of almost a quarter million for the prior week.

But the labor market still is in profound turmoil. Today’s report marks the 20th week in a row that claims exceeded the 695,000, which prior to the pandemic had been the record.

In other news, the Turkish Lira is in free fall today, with the dollar / lira bursting pass the 7 level, it now stands at 7.25, this is a record low for the lira.

Due to this extreme price action today is now the most volatile day the dollar / lira has had since August 2018.

This drop in the lira occurred as the Central Bank of the Republic of Turkey (CBRT) withdrew additional liquidity measures to support the beleaguered currency.

You could see the lira flashing warning signals on Monday night, when the overnight forward implied yield on the Turkish Lira went into hyperspace, soaring to over 1,000% as a freeze on lira liquidity caused anguish for foreign investors caught on the wrong side of the carry trade. This was the result of the intentional efforts of the Turkish government and the Central Bank of Turkey, which has prevented Turkish banks from selling or lending to lira to foreign investors. So that’s why foreigners had to borrow lira in offshore market, hence the massive short squeeze.

Deeply negative real rates and a compounding trade deficit have been worrying investors for a while now causing economists to recommend rate hikes as a solution. This proposal has been met with tremendous backlash from the Erdogan administration, as the President remains committed to pumping cheap credit into the Turkish economy, particularly at a time when the nation of 82 million has seen its tourism revenues vanish into thin air due to coronavirus.

As mayhem unfolds in the currency market, pressure mounts from the international community on the central bank of Turkey, and particularly its leader, Governor Murat Uysal, to raise interest rates. However, for those of you who are hoping Governer Uysal will turn out to be the Paul Volcker of the Annatolian Peninsula, you might want to recall that Uysal’s predecessor Governor Cetinkaya was abruptly fired by Erdogan for not being dovish enough.

Because the Central Bank of Turkey hasn’t raised rates, it’s been forced to sell its dwindling supply of FX reserves in order to prop up the exchange rate, exacerbating concerns about the lira’s future.

The CBRT has been replenishing its reserves via short-term swaps to borrow dollars from commercial banks. This recycling of dollars via the commercial banks depends on the trust of Turkish depositors. But now with this major break in the dam today, it could be a signal that this scheme of propping up the Lira via FX swaps could not be sustainable.

So it’s certainly going to be an few months for the Turkish Lira.